Banker’s remuneration including their bonuses will be subject to global regulation with a curb placed on earnings under regulations proposed by the G20 Summit. The bonus culture is said to have pushed banks into risky deals contributing to terrible damage to the banks financial position leading to the credit crunch. The Turner Report recently published by the FSA as well as analysing what has gone wrong sets out proposals for future remuneration controls which may be adopted.
A bonus scheme has one purpose - to influence an employee’s behaviour for the benefit of the employer and employee. Employee bonus, commission and other incentive schemes have always had the capability to produce unexpected results unless stress tested more carefully than is often the case. In the case of the banks the design of the scheme did not take into account the true level of risk in derivative products being traded that was retained by the bank nor large profits being generated under a contract in one year with the potential for heavy losses in another.
Bonus schemes going wrong is nothing new to those of us who regularly look at bonus and incentive schemes and frequently see the problems they cause in business even if this is rather more spectacular. Global banks are not the only employers to make mistakes.
Human ingenuity is wonderful as we have seen in press reports over recent weeks on MP’s expenses and the unexpected usage of over 60’s bus passes. Similarly for bonus schemes the ‘law of unintended consequences’ is the factor so often overlooked in their design. ’How do I hit the biggest bonus payment’ is what the employee will assess and this may not be quite as the employer anticipated. Failing to notice a windfall effect, basing payment on revenues and not profits and setting unbalanced bonus values on certain types of business and no discretion to re-focus schemes from year to year are regular areas of disaster.
Apart from the size of the bonus imprecision in controls or caps on payments or the way bonuses are calculated for teams can lead to the business suffering and relationships with and between employees who are frequently the best performers will deteriorate.
A business must have real clarity as to the objectives of a bonus scheme. Reviewing the potential for the scheme to be skewed and careful attention to the rules are key requirements. If discretionary the employee needs to know how success really will be measured by the employer.
For banks we await the details of the proposals.